Earlier this week, Goldman Sachs published a modstly upbeat research note suggesting the US economy is doing better than we think because we are mismeasuring productivity. The bank argues that “potential biases in the GDP statistics resulting from the growth of software and digital content” means “we would be skeptical of confident pronouncements that the standard of living is growing much more slowly than in the past.”
But JPMorgan, in a new note from economist Michael Feroli, “Welcome to life in the slow lane,” seemingly takes the other side of the trade. Feroli: “In mid-2013, we estimated that the economy’s potential GDP growth rate was a well-below-consensus 1.75%. We may have been too optimistic.”
And here is core of the JPM argument, which centers around productivity:
Anatomy of mediocrity. Total economy productivity growth has been 0.3% per year over the last year, last three years, and last five years. This is the most remarkable, and disappointing, aspect of the current recovery. Our estimate of 1.75% potential GDP growth embeds an assumed 1.25% annual growth in total economy productivity.
Thus, for our view of trend growth to be anywhere close to correct, we will need to see a material stepup in productivity growth. The case for optimism rests on a view that a combination of one-time effects and bad luck has held back productivity growth. For example, caution induced by the European crisis and other global developments may have held back business capital spending, which is normally a key ingredient in faster productivity growth.
However, there are also good reasons to wonder whether this optimism is misplaced. There is little in the recent data to suggest that business capital spending is poised for an imminent and material acceleration. Moreover, for a number of reasons productivity growth tends to slow as expansions mature.
Thus, even if some forces are pushing up productivity growth, we are now in the phase of the expansion when acceleration is harder to come by. For all these reasons, we see the risk to our 1.75% potential growth estimate as biased to the downside.
And what can be done about this? Feroli outlines the macroeconomic explanations and solutions of the right (the Fed’s easy money is backstopping unproductive firms and inhibiting creative destruction) and of the left (boosting demand will create its own supply and lift labor-force participation, investment, and productivity) and finds their explanatory power lacking:
A major problem confronting both of these arguments for using macro policy to influence aggregate supply is timing. The slowdown in firm creation and destruction began before the Great Recession and before zero interest rate policy. Similarly, the slowdown in productivity itself predated the downturn. Research from the San Francisco Fed (using a Bai-Perron test) dated the beginning of the productivity slowdown in late 2003. Researchers from the NY Fed (using a regime-shift model) date the break in 2004. If weak demand in the wake of the recession is not to blame for the productivity slowdown, the case for stimulating demand to boost productivity growth becomes a tougher sell. In short, while there are some arguments that demand management policies are relevant to the productivity slowdown, the traditional macro/demand vs. micro/supply policy distinction still seems salient.
So don’t blame the usual suspects: Obamanomics, Bernanke, the House GOP. If JPMorgan is correct, America’s “economic calcification” won’t fit into the usual and useless political framing:
Within the next several months, the economy is very likely to be near full-employment, and very likely to exhibit growth rates that are disappointingly slow. As this occurs, the terms of the debate surrounding the economy will increasingly focus on micro issues: how best to stimulate labor force growth and skills acquisition, how to encourage business formation, and how best to foster investment, both public and private, in tangible and intangible capital.
And, again, the good news is that such supply-side policies tend to be intrinsically good economic ideas. Whether Goldman is too optimistic or JPMorgan too gloomy is irrelevant. Democratic and Republicans policymakers looking for policies to boost America’s economic dynamism could so worse than focus on entrepreneurship, immigration, education, infrastructure, and basic research.
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